How to Promote Greater Reliance on Market Pricing

Compensate the losers.

When people are permitted to use a scarce and valuable resource for free, they use it wastefully. Access to congested roadways is a case in point. When motorists can enter such roadways free of charge, the delays caused to others are typically much greater than their own benefit from using the road. The simplest way to eliminate this kind of waste is to charge for the valuable resource.

After a daily fee of $14 was imposed on cars entering central London in February 2003, downtown traffic fell by a third and travel times on some bus lines fell by half. Londoners also saw carbon dioxide emissions fall by 20 percent, and there were substantial declines as well in emissions of particulates and nitrogen oxides, the main components of smog. The combined dollar value of those benefits was far more than enough to offset the total hardships associated with the congestion fee.

Yet a congestion fee inevitably causes some hardship for people with low incomes. And it’s an iron law of politics that the losers from any policy change scream louder than the winners sing. Social critics are right to complain that the poor often get short shrift in electoral systems dominated by big money. But that doesn’t mean the poor get ignored completely.

For example, when New York City Mayor Michael Bloomberg proposed last year to levy a congestion fee on motorists who enter Manhattan on weekdays, many legislators went ballistic. City councilman Lewis Fidler called the plan “outrageous, because they’re saying rich people can come into Manhattan and poor people may not, and that is just wrong, wrong, wrong.”

When such concerns are not satisfactorily addressed, they invariably prevent us from reaping the gains made possible by greater reliance on market mechanisms. The Manhattan congestion fee, which would have created substantial benefits for rich and poor alike, was never adopted. It’s a pity, because the objections to the mayor’s proposal could have been overcome very easily.

The classic case study was the New York State Public Service Commission’s attempt to impose fees for directory assistance calls in the mid-1970s. At the time, any telephone subscriber could place an unlimited number of directory assistance calls free of charge. That policy was wasteful because it encouraged consumers to use directory assistance services that were costly to provide, even for numbers they could easily look up on their own. The commission proposed a ten-cent charge for each directory assistance call. By encouraging consumers to use directory assistance only when necessary, the proposal promised to free up operators and equipment for more valuable tasks.

As with the mayor’s proposed congestion fee, the commission’s proposal was greeted by a firestorm of protest. Social scientists appeared before the commission to testify, preposterously, that charging for directory assistance would disrupt vital networks of communication in the community.

With its defeat seeming all but certain, Commission officials then introduced a simple amendment that rescued it. In addition to charging ten cents for each directory assistance call, they proposed a thirty-cent credit on each consumer’s monthly phone bill, a reduction made possible by the additional revenue from the charge and the savings from reduced volumes of directory assistance calls. Political opposition vanished instantly, and today no one questions that the new policy makes perfect sense.

Essentially the same strategy could salvage the proposed congestion fee for Manhattan and other cities. Most people who commute regularly by car into Manhattan are not poor, and most low-income workers in Manhattan already use public transportation for their daily commute. The problem cases are low-income workers who must occasionally drive into the city on weekdays. For such people, congestion fees would indeed constitute a new burden.

But this burden could easily be eliminated by giving every low-income worker in Manhattan an annual allotment of transferable congestion vouchers. On the rare occasions when these workers needed to drive into the city, they could do so free of charge. And they could earn some extra money by selling any vouchers they didn’t need on Craigslist.

Economic efficiency is a good thing for everyone, not just the rich. Any policy change that makes the economic pie bigger necessarily makes it possible for everyone to have a larger slice than before. But often the same policies that make the pie bigger impose difficult hardships on the poor. And in those cases the efficiency gains are likely to go unrealized unless we take specific steps to make everyone whole.

The good news is that such steps are often simple to implement. We don’t need to impose unacceptable burdens on low-income workers to reap the benefits of cleaner air and reduced traffic congestion.

Author: Robert Frank

Robert H. Frank is the Henrietta Johnson Louis Professor of Management and Professor of Economics at Cornell's Johnson Graduate School of Management and the co-director of the Paduano Seminar in business ethics at NYUâ€™s Stern School of Business. His â€œEconomic Viewâ€ column appears monthly in The New York Times. He is a Distinguished Senior Fellow at Demos. He received his B.S. in mathematics from Georgia Tech, then taught math and science for two years as a Peace Corps Volunteer in rural Nepal. He holds an M.A. in statistics and a Ph.D. in economics, both from the University of California at Berkeley. His papers have appeared in the American Economic Review, Econometrica, Journal of Political Economy, and other leading professional journals.
His books, which include Choosing the Right Pond, Passions Within Reason, Microeconomics and Behavior, Principles of Economics (with Ben Bernanke), Luxury Fever, What Price the Moral High Ground?, Falling Behind, The Economic Naturalist, and The Darwin Economy, have been translated into 22 languages. The Winner-Take-All Society, co-authored with Philip Cook, received a Critic's Choice Award, was named a Notable Book of the Year by The New York Times, and was included in Business Week's list of the ten best books of 1995. He is a co-recipient of the 2004 Leontief Prize for Advancing the Frontiers of Economic Thought. He was awarded the Johnson Schoolâ€™s Stephen Russell Distinguished teaching award in 2004, 2010, and 2012, and its Apple Distinguished Teaching Award in 2005.
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